Currency Futures

Speculation and hedging in currencies is achieved primarily through forex trading and futures contracts where the underlying asset is a particular currency. The value of a futures contract reflects expectations of the value of the currency when the contract expires, which is in contrast to the forex spot market where the values are based on market values. Trading currency futures rather than currency in forex accounts has several advantages:

Another major advantage of futures is that, unlike FX contracts, which must be rolled over every business day, currency futures only need to be rolled over 4 times annually: March, June, September, and December. However, rolling over must be done by the trader, by offsetting the expiring contract with another futures contract that expires later. Futures contracts, unlike FX contracts, are not rolled over automatically. CME Group, which lists most of the currency futures in the United States (US), publishes the official rollover date when traders are recommended to move their positions into the next contract month. The recommended date is 1 week prior to the official last trading day. However, it is better to rollover earlier when there is more liquidity. Volatility greatly increases in the last week before expiration.

In forex, interest rate differentials between a currency pair are either paid to the trader, if the trader is long on the currency with the higher interest rate, or the trader must pay the difference in interest, if short on the higher interest rate currency, every time a rollover occurs. Interest rate differentials do not apply to currency futures contracts. The only cost with rolling over a futures contract is the commission and the bid/ask spread, which is often only 1 tick.

Counterparty risk is greatly reduced because the exchanges require the brokerages to guarantee their brokers' transactions, so if the client of a particular broker has a negative balance and does not repay, then the broker must make good on the transaction. If the client, broker, and the brokerage all default, then the exchange will cover the deficit.

These are the most commonly traded currencies:

Currency Futures Contracts

Currency futures have 3 standard contract sizes. Except for the British pound, a full-size contract represents 100,000 to 125,000 units of currency, mini-contracts are half of the standard, and E-micro futures are 1/10 of the original futures contract size.

Most futures contracts are closed out before delivery, but if the contracts are held on the expiration date, then the short seller must make delivery and the long holder must take delivery of the underlying asset. However, some futures contracts are cash-settled. Contract expiration is the date and time for a particular delivery month of a currency futures contract when trading ceases and the final settlement price is determined so that the delivery process can start. Currency futures contracts listed by the CME Group, which is the main futures exchange for currencies, sets delivery on the 3rd Wednesday of March, June, September, December, unless Wednesday is a holiday. The last trading day of CME currencies is on the 2nd business day before the 3rd Wednesday, which is usually the Monday before expiration, so the traders who do not wish to make or take delivery of the currency should exit their positions by the preceding Friday, if not earlier.

Contract Multipliers and Ticks

Most currency futures — except some e-micro futures and some lesser volume contracts — use the USD as the quote currency, called American quotations. The minimum change in value of a futures contract is the tick, equal to the contract size multiplied by the pip value of the currency. Ticks are always expressed in USD. Price changes in currency futures are calculated by multiplying the number of ticks by a constant multiplier, which is what a tick is worth in USD. The tick value depends on the type of contract. The tick value for currency contracts varies, depending on contract sizes and the currency, so it is easier to remember contract multipliers rather than sizes.

For most currencies, the tick value ranges from $10 to $12.50; however, it is $6.25 for the British pound. The euro, Swiss franc, and yen futures have the same tick value of $12.50. So if the exchange rate for the euro is $1.4550 and it moves to $1.4451, then that is a single tick and the short trader will have lost $12.50 while the long trader will have gained the same amount. The euro and the Swiss franc contracts each represent 125,000 units of the underlying currency, but the yen futures contract represents 12,500,000 units, because the yen is roughly equivalent to a US penny. The yen futures contract quote of 1.2240 would mean that the price of the yen is actually 1.2240, so ¥100 would cost $1.224.

Some futures contracts, such as the yen and the Canadian dollar, are quoted inversely to the way they are generally expressed in forex. This is because futures contracts always use the dollar as the quote currency (American quotations); in forex, because of priority rules, the yen and the Canadian dollar are quoted with the dollar as the base currency rather than as the quote currency. So futures contracts for the yen would be expressed as JPY/USD rather than the usual forex quote of USD/JPY. The resulting prices will, therefore, be inversely related.

Margin Requirements

To limit losses by clients, most FX trading platforms automatically liquidate client holdings when their account balance drops below the margin requirements. Forex only has 1 margin requirement that applies to everyone. In futures, however, there is an initial margin requirement that must be met when the account is opened. Afterward, the maintenance margin requirement, which is usually lower than the initial margin requirement, must be met at all times. There are also separate margin requirements for speculators and hedgers — speculators have higher margin requirements.

The National Futures Association (NFA) sets the leverage ratio for FX markets, but the margin requirements in futures markets are determined by the exchanges since they guarantee the trades. However, brokers often have more restrictive requirements. Brokers may require more margin, depending on market conditions. During fast-moving markets, margin requirements may increase significantly.

Futures accounts are marked to market every day, meaning that the net value of each account is determined at the end of the trading session, which for CME currency futures is 4 PM Central Standard Time. If an account increases in value, then margin is increased for that account — the increase is taken from accounts that have lost value. Because margin is increased or decreased daily, according to the account value, this margin is called variation margin.

Unlike the margin in stocks, the margin in a futures account is not borrowed money but is simply the equity necessary to ensure the performance of the contract, so the required margin in a futures account is sometimes called a performance bond. Indeed, most brokers even allow using T-bills for margin, allowing the trader to earn some interest. However, if the broker must sell T-bills to maintain the necessary margin (aka "breaking a T-bill"), a fee, usually exceeding the interest earned on the T-bills, is charged. So, many retail customers use cash to post margin.

When a margin call is issued, margin can be restored by liquidating positions, depositing more funds, or using option hedges. Once a margin call is issued, then the margin must be equalized to the initial margin requirement, not the maintenance requirement. Unlike the early days, traders are not notified of a margin call by phone, but usually by email with details regarding open positions, required initial maintenance margin, the margin deficiency, and the current account value. Generally, futures brokers give traders at least 2 to 3 days to eliminate a margin call. However, deep discount brokers are stricter in margin call requirements and are more likely to force liquidation.

Because day traders usually close their position before the end of the session, they usually have lower margin requirements. Day trading is a trade that is entered and exited in the same trading session. Because currency futures markets trade nearly 24 hours per day, a trade entered shortly after the session close and exited before the next trading session close on the next day is still considered a day trade. Generally, day traders, if they are creditworthy, have a margin requirement that is 50% to 10% of what the exchange requires. However, most brokers grant the more favorable margin requirements accorded to day traders only if their transactions are opened and closed between 7 AM to 2 PM central time since liquidity is greatest during this period; some brokers may extend that to 4 PM.

Specific FX Futures

Futures on the major currencies generally have a contract size of 125,000 units and a tick value of $12.50. However, some contracts are different. For instance, the British pound has a standard contract size of 62,500 units, so the tick value and multiplier are $6.25.

Aussie and Canadian Futures

Because the major export products of Australia and Canada are commodities, the Aussie and Canadian dollar often move with commodity prices, so they are often called commodity currencies. Contract sizes are 100,000 units, so the tick value is $10. So if an Aussie dollar futures contract moves from 1.05342 1.0634, that would be a move of $1000, = (10634 − 10534) × $10 = $1000.

US Dollar Index

US Dollar Index was introduced in 1973 and represents the value of the dollar against a basket of major currencies: euro, yen, British pound, Canadian dollar, Swedish krona, and Swiss franc. The Dollar Index is traded on the Intercontinental Exchange, also called ICE. Because the Dollar Index is diversified, margin requirements are often less than half that required on futures contracts for specific currencies.

With an index as the underlying asset, quantities are not treated as individual currencies but as relative values. Unlike currency futures, the size of the Dollar Index (symbol: DX) is determined by the value of the index. The Dollar Index futures are determined by multiplying the index value by $1000, so if the index is trading at 80.00, then the contract size is $80,000. Obviously, the contract size will vary with the index.

The traditional tick value of the Dollar Index was $10, but in 2005, ICE decreased it to $5. The easiest way to calculate profit or loss is to consider only the numbers that yield the difference, then multiply by 5. So, for instance, if the dollar index moved from 80.221 to 80.218, the short profit = (2210 − 2180) × 5 = $150.

Unlike most index futures, the ICE US Dollar Index is settled by actually delivering the currencies in proportion to their weight in the index to the seller of the futures contract, who pays the long position the final settlement price in USD.

E-Micro Currency Futures

The CME group introduced E-micro FX futures to lure smaller speculators from the FX market into the futures market. E-micro contracts are 1/10 the size of original sized futures contracts. For instance, the EUR/USD E-micro futures contract has a tick value of $1.25 and is the most highly traded e-micro futures contract.